## Free Cash Flow Share Repurchase Programs versus Dividends

If no profitable investment opportunities are available, a company should return its free cash flow to its stockholders. Free cash flow can be distributed to stockholders as dividends, which are taxable payments, or through the corporation's repurchase of shares in the open market. Presently, share repurchase is how many corporations prefer to pay out free cash flow. For instance, Microsoft used free cash flow to repurchase over 6 billion of stock in its fiscal year ending June 30, 2002. That's...

## Where Do We Go Next

Valuing common stocks is a mystery to most investors. Recent extreme volatility in the stock market no doubt has added to the mystique. Indeed, many market observers insist that these gyrations support the notion that stock valuation is less art and science and more magic. This book's focus is on the art and science of stock valuation and how you can profitably use it in your investment decisions. In the pages that follow, we explain how you can apply the stock valuation principles used by...

## Managed Earnings Managed Expectations and Accounting Scandals

The stock market is obsessed with quarterly earnings estimates so much so that the finance and investor relations departments of com panies commit significant resources to inform Wall Street of the company's annual and quarterly revenue and earnings expectations. Prior to March of 2000, companies could reveal certain material nonpublic information to favored analysts and large shareholders who could then use the information to their advantage. To overcome the inequity of selective disclosure,...

## WACC Calculation Cisco

Recall that Cisco does not have debt or preferred stock outstanding, which makes the calculation of Cisco's WACC relatively easy. Cisco's WACC is its cost of equity, which we calculate under the cost of equity section above, to be 10.04 percent. Cisco is a high-tech firm in a quickly changing industry where obsolescence is a major concern. Cisco's WACC is considerably higher than the WACC for ConEd, a regulated company in the stodgy utility industry. As can be seen by these two examples, the...

## The Time Value of Money Our Recommendation

If you are serious about investing, it is essential that you understand how to value stocks and bonds properly. This requires that you know the basics regarding the time value of money the math underlying compounding and discounting. The math is not difficult but does require you to understand the relationship between present and future values, how to use exponents, and how to compound to future value and discount to present value. Inexpensive calculators have built-in financial programs that...

## The Discounted FCFF Valuation Approach

The discounted FCFF valuation approach uses a four-step process to value the stock of a company. In this section we value the common stock of Microsoft, at a point in time prior to its announcement on January 16, 2003 of a two-for-one stock split to take effect on January 28th. If you follow along with us closely, you'll quickly learn the basics about valuing a stock. Step 1 Forecast Expected Cash Flow. The first order of business is to forecast the expected cash flows for the company. We use...

## Total Risk Systematic Risk Unsystematic Risk

Diversification reduces the unsystematic risk of a portfolio. Remember that on average, the negative stock-specific surprises affecting companies in a diversified portfolio will be offset by positive surprises. TABLE 2-7 How Many Stocks Make a Diversified Portfolio TABLE 2-7 How Many Stocks Make a Diversified Portfolio Average Standard Deviation of Annual Portfolio Returns Ratio of Portfolio Standard Deviation of a Single Stock Table 2-7 summarizes the results of a study8 performed by Meir...

## Return versus Risk Our Recommendation

When deciding whether to buy or sell a stock, we assess whether the probabilities of positive or negative surprises are equal, or whether the probabilities of reward or risk are skewed in a particular direction. Over time, there is a tendency for the return and risk of the markets to revert to their average levels, a concept known as reversion to the mean. For example, the returns on the S amp P 500 over the 1995-1999 period were as follows 37.4 percent, 23.1 percent, 33.3 percent, 28.6 percent...

## Some Definitions Relating to Return and Risk

It's important that we all start on the same page when discussing expected returns and risk. In this section, we define some important terms that relate to the calculation of returns on an asset. We then tackle the thorny problem of understanding risk. Definitions Relating to Return Expected Return on a Risky Asset E i is the rate of return an investor expects to receive on a risky asset over a period of time. The expected return consists of regular cash flow payments, such as dividends on a...